Premium
Switching between Expectation Processes in the Foreign Exchange Market: a Probabilistic Approach using Survey Data *
Author(s) -
Prat Georges,
Uctum Remzi
Publication year - 2007
Publication title -
review of international economics
Language(s) - English
Resource type - Journals
SCImago Journal Rank - 0.513
H-Index - 58
eISSN - 1467-9396
pISSN - 0965-7576
DOI - 10.1111/j.1467-9396.2007.00684.x
Subject(s) - rational expectations , economics , econometrics , simple (philosophy) , adaptive expectations , probabilistic logic , aggregate (composite) , foreign exchange market , interpretation (philosophy) , us dollar , exchange rate , mathematical economics , computer science , mathematics , macroeconomics , statistics , philosophy , materials science , epistemology , composite material , programming language
This paper relaxes a fundamental hypothesis commonly accepted in the expectation formation literature: expectations are, unchangingly, either rational or generated by one of the three simple extrapolative, regressive, or adaptive processes. Using expectations survey data provided by Consensus Forecasts on six European exchange rates against the US dollar, we find that the rational expectations hypothesis is rejected at the aggregate level. By implementing a switching‐regression methodology with stochastic choice of regime, we show that the expectation generating process is given at any time by some combination of the three simple processes. An interpretation of this framework in terms of economically rational expectations is suggested.